The Bank of Canada aggressively cuts rates by 50 bps

SLGI Asset Management Inc.

• After three consecutive 25 basis points cuts (bps), the Bank of Canada (BoC) decided to take a more aggressive stance. It cut rates by 50 bps to 3.75% at its October meeting.
• The U.S. Federal Reserve’s (the Fed) decision to start with a 50 bps cut in September provided room for the BoC to cut 50 bps without further widening the interest rate differential.
• Current interest rates are still higher than inflation hence there is room for the BoC to continue normalizing rates.
• We think the BoC will cut another 25 bps, possibly 50 bps if inflation is benign and economic data continues to soften, at the final BoC meeting in December 2024. 
• Recent data prints show that not only is inflation moderating but the September Consumer Price Index (CPI) came in below expectations at 1.6%, the lowest CPI since February 2021. This brings Q3 average CPI to the BoC’s 2% target. The main drivers were a year-over-year decline in transportation and clothing/footwear, shelter costs also moderated from +5.3% in August to +5% in September. Food inflation remained sticky at +2.8%.
• While the Bank of Canada has a single official mandate of flexible inflation targeting, the renewed framework for 2022-2026 outlined how the BoC would “consider a broader range of labour market indicators to actively seek the level of maximum sustainable employment needed to keep inflation on target.” Bank of Canada governor Tiff Macklem said recently that as the BoC approaches the inflation target, it becomes more concerned about the downside risks.
• According to the BoC’s Q3 Business Outlook Survey, firms say high rates continue to weigh on consumers. Sales expectations are still below average although a slight improvement from Q2 due to the two interest rate cuts before the survey was completed in late August. All three categories (business activity, prices and costs, and capacity) remain negative albeit less so than in Q2.
• The BoC’s Q3 Consumer Expectations Survey also provided invaluable insight. Consumer perception and expectations of inflation declined from last quarter although still above pre-COVID. Most important though, expectations for inflation two years from now declined sharply from last quarter and are now at pre-pandemic levels. On the positive side, indicators of perceived financial stress (i.e. expect finances to decline over the next year, probability of job loss) improved, reversing the sharp deterioration last quarter. 44% of consumers surveyed have noticed the impact of interest rate cuts. However, high prices and elevated interest rates continue to weigh on consumer budgets.
• Overall, both surveys indicate that high interest rates have brought inflation back towards target and there’s room to further loosen restrictive financial conditions.

MFS Investment Management Canada Limited (A sub-advisor to SLGI Asset Management Inc.)

• The BoC’s 50 bps cut reflects the view that with inflation now contained, its focus can now turn toward Canada’s lackluster economy.
• The most important data development was the inflation release for September. Canada’s headline CPI surprised to the downside, coming in at 1.6% year-over-year, less than consensus expectations of 1.8% year-over-year, and less than the 2% midpoint of the BoC’s inflation target band.
• In addition, there was slowing in the BoC’s core inflation measures, which also pointed to progress on the disinflationary front. Now that the BoC has somewhat greater conviction that inflation has continued to normalize nearer to its target, it cut the policy rate by 50 bps.
• On the confidence indicator front, the Q3 2024 Canadian Survey of Consumer Expectations (CSCE) and Business Outlook Survey (BOS) were both soft, pointing to weak sentiment and downside risks to growth. In particular, fewer firms had planned to hire or invest in the face of weak demand and the survey data also confirmed a soft but slowly improving outlook for business optimism.
• In contrast, the labour market continues to display signs of strength. Last week’s Labour Force Survey saw strong employment gains in September, with a surprise to the upside combined with the unemployment rate falling for the first time since January by 0.1 percentage points to 6.5%, well below consensus expectations.

SLC Management (Canada) Inc. (A sub-advisor to SLGI Asset Management Inc.)

• The BoC cut its overnight rate by 50 bps to 3.75% reflecting the view that with inflation now contained, its focus can now turn toward Canada’s lackluster economy.
• Headline consumer price inflation (CPI) for September continued to move lower led by month-over-month price decreases in energy and services. However, while the headline CPI fell more than expected, the core measures of inflation targeted by the BoC remains unchanged in the mid 2% range.
• With economic growth still muddling along between 1-2%, the BoC will now try to balance moving toward a more neutral overnight rate to foster growth, while keeping a watchful eye to avoid reigniting inflation in the housing market as interest rates move lower.

Source: Bloomberg and Sun Life Global Investments. Data as of Oct 23, 2024.

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SLC Management is the brand name for the institutional asset management business of Sun Life Financial Inc. (“Sun Life”) under which Sun Life Capital Management (Canada) Inc. operates in Canada.  SLC Management is the sub-advisor to the Sun Life Core Advantage Credit Private Pool for which SLGI Asset Management Inc. acts as portfolio manager.

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